Thursday, December 8, 2011

The economic analysis of politics, Public Choice (which subtitle according to James Buchanan, Nobel Prize in Economics, should be Politics with Romance - I encourage you to read that short article by the way), is in my opinion one of the most exciting research programs in economics. It's fascinating to see (1) how increasingly people become disillusioned about politics and though they keep voting, pushing for bad public policies, and calling for politicians to solve their problems; (2) politicians can be elected and reelected despite repeatedly changing their positions and lying to voters; (3) the belief among voters that somehow that politicians are different from regular citizens and, more particularly, the belief that the President (of the US, but also France, etc.) has special rights than an ordinary citizen doesn't have.

I will not address point (3) because it's not relevant to the core of the discussion but points (1) and (2) can be addressed with the following short findings of economics:

(1) Politicians (and bureaucrats) are no different than market participants, they are self-interested individuals whose utility function is not as dependent of money than it is for market participants but is highly dependent on power and the ability to affect the life of other people (what's the saying: power is the greatest aphrodisiac). To get that power politicians must be elected and, therefore, they must maximize votes.

(2) To maximize votes, politicians must make promises to voters, more particularly to the voters which votes will swing the elections in their favor (median-voters), they must address issues that these median-voters care about EVEN IF these issues are far away from concerns from most of voters that vote for this candidate because of the basic ideological principles his/her party represent. Politicians to get votes and more particularly campaign money to be elected or reelected use their power to pass policies that will benefit to few people (interest groups) but for which the costs will be borne by many (widespread costs). The typical examples we use are Sugar quotas that allow US producers of sugar to charge sugar prices 3 to 4 times higher than the world price of sugar to consumers. Individually, these higher costs are only few cents but globally these costs amount to several billion of dollars and thousands of dollars over years for each consumer; tax policy, tariffs are other examples. Why do people don't oppose these policies? The answers are [1] because for most the cost of being informed about these policies is greater than the benefits that you will get by being informed; therefore, people remain rationally ignorant (standard public choice argument). How many of you knew about the US sugar quotas costing billion of dollars to the consumers? And therefore, the people who are rationally informed about these policies are those who benefit from these policies and actually spend resources to get these policies passed. [2] Bryan Caplan's argument is that people hate foreigners, perceive the economic pie as a fixed pie and therefore assume that when money goes to foreign people, it means less money for the citizens, see trade, exchange, competition between individuals as a zero-sum game. There is a lot of debates about whether Bryan Caplan's argument is incompatible with the Rational Ignorance argument. This is how I reconcile both. People have biases, beliefs that I just described above and are comfortable with believing that what they believe is the right thing. Therefore, finding out that they actually are wrong might be a terrible emotional and psychological experience for them. In other words, people remain rationally ignorant not only because most of these policies don't concern them or concern them little but more importantly because I believe that the cost of being informed is greater than the actual cost of getting the information, there is a cost associated with finding out that what you believed was the truth is actually NOT the truth!

(3) Politicians to get reelected rely on voters' myopia. There are studies that show for example that when the economy is doing well, the incumbent is systematically reelected and when the economy is not doing good, the incumbent doesn't get reelected. Voters rely on economic indicators such as disposable income (wages, dividends, interests, unemployment compensation), inflation, unemployment rate to decide whether to reelect or not the incumbent. More particularly, studies show that voters don't look at the entire term, they exclusively focus their attention on the year of the election. As a result of that, we observe that incumbent systematically adopt policies to increase voters' disposable income in election year (look at how nice President Obama has been to "cancel" your student loans and impose a cap on loans!) and then adopt policies that will decrease disposable income after being elected.

(4) Politicians are neither Angels no Demons. They respond to incentives and face constraints. Unfortunately, the politicians incentives are bad.

(5) To control what politicians can and cannot do, you have two mechanisms: the Constitution and terms. The Constitution is a document that states what and what the government cannot do. Unfortunately, Constitution has been amended many times and, my personal opinion, is despite the US Supreme Court, the Constitution has come to mean almost nothing (look at the US president going to kill his own citizens in foreign country and by doing that violating due process) and interpretations are so different that it's become the tool for politicians to do many things that the founders of this country certainly would be oppose to. Terms do tie the hands of politicians but voters myopia strongly limit the effectiveness of that mechanisms. Also contrary to markets, where when you make a bad decisions, most of the time (not in the case of Crony Capitalism) you directly pay the costs of your bad decisions, in politics your bad decisions are costly to the taxpayers and the society.

On this I do encourage the SWEET to read Randall Holcombe's From Liberty to Democracy book, it's an excellent book that explains why the government's size and scope are so big now. The US Constitution originally intended to prevent government abuse but as any written documents it has in it the very shortcomings that has allowed the government to grow in size and scope as we have today.

Sunday, December 4, 2011

What can and cannot a politician do? Well this is what I believe to be a flawed question. Why you would feel the need to ask a politician what to do or what can he do about economics is disastrous. I feel that politics should have a very small involvement with economics at all, that their purpose is only to ensure the safety of its citizens and to enforce contractual agreements. This being said I think the fact that the government is as involved in economics as to classify it more as an economic organization rather than a political one because at this point the two halves are in separable. I often talk about the over bearing squid of government that needs our support but also has the ability to eat those underneath, and in pertinence to this the squid uses its long and strong economic tentacles to try and steer those underneath it and make sure it has an adequate flock of followers to keep itself off the ground. I hate this squid, I don’t think it should have its tentacles in my economics, and I choose not to stand underneath it if given the choice. This choice is not given to me that often and so I see myself routinely being pushed around by a tentacle made of us dollars and hate its influence over our society locally and globally. I wonder if there is even a possibility to get completely out from under the squid, or is you leave one will you walk under another. I may never find my way out of this sea of tentacles.

To make this more palatable, I suggest watching the Daily Show's coverage, which is available on the show's website, the bit is called America's Next TARP Model, it played on Thursday Dec 1.

What can we say about this? I know we have been discussing the role of government; some seem to think our governmental institutions are going to lead directly to an apocalyptic fate where the U.S. greenback will lose all value.While I have made it clear that, I do not agree with the former statement, this opaque maneuvering of government is unconscionable. What accountability is there if the Fed is allowed to make take such unilateral action? What can we say about moral hazard here?

We are now in the midst of the all the joy that comes during an election cycle. Did Hermain Cain have an affair, is Obama campaigning under the guise of official business to Iowa and New Hampshire, how big is Newt's waistline going to be? The main focus is, of course, the economy. Can a new administration improve the job market and if so how? The articles we read are true but the President does actually have a tremendous affect on the economy, I think. Knowing the rules of the game are very important for economic calculations and when you have a president and congress that pass band-aid style fixes to things it tends to leave these calculations hanging in the wind. How much will government healthcare cost a business owner with 15 employees? I don't know and I don't think anyone could answer me that but yet it is in the mind of the business owner as he decides what to do over the next five years.Bastiat makes a good point of what should be obvious but is often times over looked. I just had this image of Krugman on a round table discussion about all the economic good that would come from the destruction of 9/11. I don't exactly fear people who are naive and don't see the unseen parts of economics but when people, such as Krugman, who have to have at some point learned about the broken window fallacy deny or ignore it it makes me afraid.